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September 10, 2017, 04:11:18 PM |
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When a simple phone call can take your project’s life! Devil is always in the detail.
Summary
As reported by Protostarr, on August 24, 2017 the company received a phone call from the U.S. Securities and Exchange Commission (SEC) and some time later made tough decision to shut down its project. The startup has already refunded its investor by paying back the ethereum previously raised — roughly amounted to USD 45,000.
What circumstances caused the call from SEC? What provisions in Protostarr’s White Paper made SEC to make this call? Where there any red flags? Below we consider Protostarr’s ICO documentation from legal perspective to sched light on the ICO “not-to-do” list. It could be helpful both for founders of ICO/ITO projects and for donors which are considering investing in such projects.
Idea
Protostarr enables investors to fund their favorite content creators (i.e. Youtube channels) and get a portion of their profit. The whole structure is based on blockchain smart-contracts. Sounds simple, isn’t it?
Legal analysis of the White Paper
It seems like the Protostarr team didn’t know of the existence of lawyers until the conversation with SEC officers. You can be extremely genius and visionary but in today’s hectic world, call it cryptoworld, you are doomed to fail without a proper advice from lawyers. Keep bearing this in mind.
There is a disclaimer at the bottom of the first page:
This document is strictly for informational purposes and does not constitute an offer or solicitation to sell shares or securities in Protostarr or any related or associated company. Any such offer or solicitation will be made by means of confidential offering memorandum and in accordance with the terms of all applicable securities and other laws
It is not clear why they didn’t put this in bold at the front of the WP. In this inconspicuous format the SEC officers are very likely to have overlooked it.
We have reckoned more than 120 words investor and investment in the White Paper. Never use these terms in your ICO documentation. Bear in mind that the “Howey Test” is a test for determining whether certain transactions qualify as investment contracts and SEC officers look forward to seeing it in your WPs. Neither you should use these terms in WPs, nor should you say these words in various marketing events. Better forget them absolutely. Instead use “Dear supporters or ”Dear community” things.
The Protostarr WP completely lacks any kind of a token conception. To put simply, the WP just says: invest cryptocurrency now and you will receive more profit in the future. It fails to include any level of token-holders’ participation that is required to avoid the Howey test. Many ICO founders believe that they will be able to avoid the Howey test by providing potential token holders with a nominal level of participation. This is not true. The level of participation must be carefully developed and well-thought-out.
The Protostarr team also decided not to be bothered with preparation of token sale terms (TST). Many ICOs incorporate this documents in their WPs. However, our strong view is that it makes more sense to prepare them separately because TST must be drafted as a contract with all these governing law and dispute resolution clauses.
Conclusion
You shouldn’t think that the SEC is not closely watching your ICO just because you prohibited buying tokens by US, Singapore and China citizens in the WP. You are still on the hook. The most effective way to avoid problems with ICO is to carefully develop the token concept with your lawyers and then to ask a US law firm to prepare a legal opinion as to whether this token conception will pass the Howey test. The best option is to receive an official legal opinion (where lawyers bear liability for what they have concluded in the opinion) but we highly doubt that any US law firm would agree to opine on it officially.
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